On 15 January 2016, the Financial Services and Treasury Bureau published its consultation conclusions on allowing open-ended fund companies (“OFC”) to be established under the Securities and Futures Ordinance (the “SFO”). The Securities and Futures (Amendment) Bill 2016 (the “Bill”) was published on the same date.
Currently, an open-ended investment fund could only be established in Hong Kong in the form of a unit trust, but not in a corporate form due to the restrictions on capital reduction under the Companies Ordinance (Cap. 622) (“CO”).

The new OFC structure provides a more flexible choice of investment fund vehicle. It is aimed at diversifying the fund domiciliation platform in Hong Kong and boosting of Hong Kong’s position as an international asset management centre.

The Proposed OFC Structure
Key Features
An OFC is an open-ended collective investment scheme, which is structured in corporate form with limited liability, but with the flexibility to create and cancel shares for investors to subscribe and redeem the funds. Like a conventional limited company, an OFC has the following features:
1. it has a legal personality;
2. it has a constitutional document, namely the Instrument of Incorporation;
3. it should be governed by a board of directors who are subject to statutory and fiduciary duties; and
4. the liability of its shareholders is limited to the amount unpaid on their shares in the company.

However, as an investment vehicle, an OFC has greater flexibility than conventional companies. It has the following features:
1. it has the flexibility to vary its share capital in order to meet investor subscription and redemption requests;
2. it may distribute assets out of share capital subject to solvency and disclosure requirements;
3. it may be created as an umbrella fund, allowing for a number of sub-funds, where each sub-fund would have a pool of assets that is managed in accordance with the investment objectives and policies specified to that sub-fund. The assets of each sub-fund belong exclusively to that sub-fund and shall not be used to discharge the liabilities of or claims against the umbrella OFC or any other sub-fund; and
4. it may be a publicly or privately offered fund. A publicly offered fund is a fund that is offered to the public in Hong Kong and should be subject to the prior authorisation of the SFC. A privately offered fund is a fund that is not offered for sale to the public (e.g. for sale to professional investors) and is not subject to the authorisation of the SFC.

An OFC has to be registered with the Securities and Futures Commission (the “SFC”), but is not required to be a licensed corporation under the SFO. It should delegate its investment management functions to an investment manager who is appointed by the OFC board.

Key Operators
The directors of the OFC board, the investment manager and the custodian will be the key operators of an OFC.

The directors are legally responsible for all the affairs of the OFC. There must be at least 2 directors who are individuals over the age of 18. Corporate directors are not permitted. Directors of the OFC owe the same statutory and fiduciary duties to the OFC as that of directors of a conventional company formed under the CO. They do not have to be licensed under the SFO, as it will be mandatory for them to delegate the investment functions to the investment manager of the OFC. They are not required to be residents of Hong Kong, but each non-resident director should appoint a process agent in Hong Kong to accept service of process.

The investment manager exercises the investment management functions of the OFC. It will be required to be licensed by or registered with the SFC to carry out Type 9 (asset management) regulated activity.
An OFC is required to have a custodian. The assets of an OFC must be segregated from that of the investment manager and entrusted to a separate, independent custodian for safekeeping. The custodian can be incorporated in Hong Kong or overseas, provided that it has a place of business or an agent in Hong Kong for the purpose of accepting service of notices and legal documents in Hong Kong.

Investment Scope
The Hong Kong Government proposes that OFCs should invest in asset classes that fall within the definition of securities, futures and over-the-counter derivatives under the SFO, i.e. their investment scope should align with Type 9 (asset management) regulated activity.

Publicly offered OFCs will be subject to the requirements and restrictions set out in the SFC Handbook for Unit Trusts and Mutual Funds, Investment-Linked Assurance Schemes and Unlisted Structured Investment Products (the “SFC Handbook”) as required by any publicly offered SFC-authorised funds under the existing regime.

Privately offered OFCs will be allowed a 10% de-minimis exemption (i.e. not more than 10% of the total gross asset value of the OTC) for investing in other asset classes, which are not inconsistent with the scope of Type 9 (asset management) regulated activity. This includes investments in cash deposits and currencies.

Incorporation and Registration of an OFC
An applicant who wishes to set up an OFC should apply to the SFC for registration prior to applying to the Registrar of Companies (the “CR”). Once the SFC is satisfied that the registration requirements are met, it will issue a notice of registration to the CR.

An incorporation form and other relevant documents should be submitted to the CR. The CR will incorporate the OTC after it has received the notice of registration and other relevant documents from the SFC, and that all other requirements for incorporation have been met. Registration of the OFC takes effect on the day of issue of the certificate of incorporation by the CR. OFCs that seek to offer its shares to the public must also apply for authorisation under the SFO.

Roles of the SFC and the CR
In view of the nature of an OFC as an investment fund, the SFC will be the primary regulator responsible for the registration and regulation of OFCs under the SFO. The SFO empowers the SFC to publish codes and guidelines to provide guidance in respect of matters relating to incorporation, management, operation, and business of OFCs. The SFC can also give directions to OFCs, their directors and investment managers in specified circumstances where necessary.

The CR will be responsible for the incorporation and administration of statutory corporate filings of OFCs. The CR will keep records of information relating to PFCs and provide the public with access to such information.

Related Amendments regarding Profits Tax Exemption
Currently, profits tax exemption is given to public funds and offshore funds under sections 26A and 20AC of the Inland Revenue Ordinance (CAP.112) respectively. Under the proposed amendments to the SFO, the current profits tax exemption regime would also apply to OFCs. Publicly offered OFCs will be exempt from Hong Kong profits tax under section 26A(1A)(a) of the IRO, irrespective of the locality of their central management and control. For privately offered OFCs, profits tax would be exempted under sections 20AC and 20ACA if their central management and control is outside Hong Kong. Any onshore privately offered OFCs will be subject to profits tax.

The OFC structure is likely to provide an attractive alternative to the current investment fund structures available in Hong Kong. It allows funds to be set up in the form of a company, but with the flexibility to create and cancel shares for investors to trade the funds, which is currently not enjoyed by conventional companies under the CO. Nevertheless, details of the rules and requirements applicable to OFCs are yet to be determined, pending further public consultation to be conducted by the SFC. As stated in the Legislative Council Brief of the Bill, a subsidiary legislation will be enacted under the SFO to set out the detailed operational and procedural matters of OFCs.

For enquiries, please contact our Corporate & Commercial Department:

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Important: The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.
Published by ONC Lawyers © 2016